Gen Z: Taking ESG Investing To The Next Level

As Appeared in Financial Advisor

The continued adoption of investment strategies that incorporate environmental, social and governance (ESG) considerations is undeniable. Positive asset flows, new strategy innovations and growing media coverage all point to the maturation of an investing trend into a more regular fixture of portfolio construction. Some say this evolution has been fueled by the prospects for investment returns that are supported by the benefits of adhering to ESG principles. Some say it has been powered by generational shifts. While it may have been started by older generations of investors, it’s been increasingly embraced and elevated by the much-discussed “millennial generation.” But what about the next generation, born in the late 1990s and early 2000s and sometimes referred to as “Gen Z”? Will Gen Z push ESG investing to the next level?

We took the opportunity to interview Matt Chistolini, a summer intern for The Colony Group and co-president of the Colgate Investment Group, about how future investors might be thinking about ESG.

Q: Why do you think your generation cares about ESG issues? What does ESG investing mean to you?

A: Let me answer this question with an example. Before joining The Colony Group, I worked in several water labs where I analyzed microplastic transport. This type of research helps reveal the effects of plastic contamination in the environment, though it is still relatively new. For context, the Pacific garbage patch was only discovered in 1997. The broad acceptance of this research is evidenced by campaigns like saying “no to the plastic straw” and policies banning single-use plastic bags. These movements made consumers more aware of plastics used in products, which has put pressure on corporations to respond. Companies like Procter & Gamble, which used microplastic beads in their toothpaste, have received adverse media attention, and competitive pressure from more sustainable consumer preferences led to Procter & Gamble redesigning its toothpaste. This simple example illustrates why investors should consider ESG factors when observing thoughtful investing practices. Ignoring these factors may perpetuate cultural inertia, ultimately compounding some of today’s problems, and it may also lead to a failure to identify unsustainable business practices, particularly given shifting consumer preferences.

Q: OK, though your example focuses on environmental concerns—the “E” in ESG. Is that what you’re primarily focused on, or does it go further than that?

A: Along with the “E,” I’m also interested in the “S” and “G.” I believe that looking at all these factors together leads to a more sophisticated investing process. From a young investor’s perspective, the ESG approach provides a framework for thinking critically about the long-term viability of a company. Most financial models make a flawed assumption that a company will continue operating in perpetuity. However, many companies are unable to adapt to a changing marketplace. Future-minded firms look beyond near-term earnings and are more likely to make long-term investments that enable them to adapt. Evaluating ESG factors provides a predictive signal of a company’s long-term sustainability. That includes determining whether the company is making investments in its people and actively embracing diversity. It also includes a preference for strong governance. Building a strong governance structure that aligns incentives and emphasizes appropriate controls helps companies manage and mitigate many risks, including risks to their reputation. It also helps them attract and engage top talent. For a long-term investor, it’s imperative to evaluate the effects that weak governance might have on a company’s value.

Q: So ESG investing is not just about doing good for the world. It’s also about good investing?

A: I think one leads to the other. With the rise of outsourcing and digitization, barriers to entry for new products have come down. It becomes more important for companies to differentiate themselves on more than just price. In a study conducted by Porter Novelli/Cone, the authors found that more than 75% of Americans feel a stronger emotional attachment to brands that communicate a clear purpose. For example, Target’s vision is based on guided commitments to great value, the community, diversity and the environment. Through this vision, Target is communicating that it aims to be an agent of positive change for society and that its stakeholders include its community and the environment. This values-based vision stands in sharp contrast to companies that are simply profit-driven, believing that their sole obligation is to maximize shareholder value without regard for other stakeholders. Although this is just one example, it seems clear how a company embracing deeply ingrained ESG values can connect with more people through its brand.

Q: There are a variety of metrics used by managers when implementing ESG strategies. Do you think these fully capture the social and financial goals of sustainability-minded investors?  

A: Typical metrics do not have room for nuance. Unfortunately, they reflect our innate need to distill factors into a rank, order or list. No conversion table allows us to compare the impact of 10 metric tons of recycled plastic against 4,000 hours of community service. A simplistic notion of ESG involves negative screening, where companies that produce harmful products like tobacco, alcohol and guns are excluded from portfolios. That approach can work for investors who want to align their investments with their values on a finite number of issues, but it does not help investors who want to be more proactive and thorough in positively impacting the world. Such an approach requires a deeper analysis that investigates a company’s overall culture and structure rather than simply measuring a few company-reported datapoints. It also may require a “seat at the table” by shareholders, allowing investors to drive change through proxy voting and resolutions.

Q: For someone still in college, you have an impressive grasp of these concepts! Have you studied ESG investing in college?

A: I have been part of a movement to integrate ESG analysis into the community at Colgate University, where I am enrolled. I founded the ESG branch of the Colgate Investment Group to incorporate ESG practices into our research process. This was initially met with resistance, with some members questioning the relationship between returns and responsible behavior. Nevertheless, I am resolute in my belief that utilizing an ESG framework leads to a more thorough investment process. As our team gained comfort in analyzing how ESG principles can impact our investment thesis, we came to appreciate the longer-term perspective. Moving forward, all investment group presentations will have an ESG component. We are pursuing this approach because we believe that an ESG framework will provide more holistic insights. We think it’s the future!

Michael Nathanson is the chairman and CEO of The Colony Group. Matthew Chistolini is an intern at The Colony Group and attends Colgate University majoring in applied mathematics and economics. As part of his commitment to lifelong learning and improvement, Mr. Nathanson enjoys co-authoring articles with The Colony Group’s interns and mentoring them to be future thought leaders.